I forget which podcast I was listening to the other day, but they were discussing the virtues of “investing” rather than just simply “trading.” I would guess that the layperson who basically ignores the financial markets wouldn’t see these words as distinct dichotomies. To me, however, they connote two very different mindsets. As discussed below, I don’t believe that one is better than the other, if that were the case the other wouldn’t exist, it is just that they are very different.
The Differences Between Trading and Investing
According to Investopedia, there is a difference between the two terms,
The goal of investing is to gradually build wealth over an extended period of time through the buying and holding of a portfolio of stocks, baskets of stocks, mutual funds, bonds and other investment instruments. Investors often enhance their profits through compounding, or reinvesting any profits and dividends into additional shares of stock. Investments are often held for a period of years, or even decades, taking advantage of perks like interest, dividends and stock splits along the way.
While markets inevitably fluctuate, investors will “ride out” the downtrends with the expectation that prices will rebound and any losses will eventually be recovered. Investors are typically more concerned with market fundamentals, such as price/earnings ratios and management forecasts.
Trading, on the other hand, involves the more frequent buying and selling of stock, commodities, currency pairs or other instruments, with the goal of generating returns that outperform buy-and-hold investing. While investors may be content with a 10% to 15% annual return, traders might seek a 10% return each month.
Trading profits are generated through buying at a lower price and selling at a higher price within a relatively short period of time. The reverse is also true: trading profits are made by selling at a higher price and buying to cover at a lower price (known as selling short) to profit in falling markets. Where buy-and-hold investors wait out less profitable positions, traders must make profits (or take losses) within a specified period of time, and often use a protective stop loss order to automatically close out losing positions at a predetermined price level. Traders often employ technical analysis tools, such as moving averages and stochastic oscillators, to find high-probability trading setups.
I was shocked to find that investopedia article that so succinctly discussed what I was thinking!
Can You Be an Investor and a Trader?
If you had asked me a few years ago (or much more likely, if I decided to espouse my thoughts years ago) I would have quickly told you “no.” I would have naively reasoned that most people couldn’t handle wearing both hats. What would have been true is that at the time, I couldn’t wear both hats. Currently, and for the foreseeable future, I think and act under both dichotomies.
Every month I invest in undervalued dividend growth stocks. I plan on holding these positions for years if not decades. There is something comforting to know that in 10, 15 or 20 years I’ll be receiving income from the purchases I make today. At the exact same time, within the same account, I am trading a number of options contracts monthly. I don’t keep track, but last time I looked into I was way over 50 trades a month.
I think a problem exists when you don’t know your investment/trading strategy and you cross the bridge too many times. You end up trading your investments and investing in your trades. This will inevitably lead to losses.